Back to GetFilings.com

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-Q

þ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2003

OR

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from ______________ to _________________

COMMISSION FILE NUMBER 1-16477

COVENTRY HEALTH CARE, INC.

(Exact name of registrant as specified in its charter)

6705 Rockledge Drive, Suite 900, Bethesda, Maryland 20817
(Address of principal executive offices) (Zip Code)

(301) 581-0600
(Registrant’s telephone number, including area code)

      Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No¨

     Indicate by check mark whether the registrant is an accelerated filer (as defined in the Securities Exchange Act of 1934 Rule 12b-2). Yes þ No¨

     Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

COVENTRY HEALTH CARE, INC.
FORM 10-Q
TABLE OF CONTENTS

2

PART I. FINANCIAL INFORMATION
ITEM 1: Financial Statements

COVENTRY HEALTH CARE, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)

See accompanying notes to the condensed consolidated financial statements.

3

COVENTRY HEALTH CARE, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
(unaudited)

See accompanying notes to the condensed consolidated financial statements.

4

COVENTRY HEALTH CARE, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)

See accompanying notes to the condensed consolidated financial statements.

5

COVENTRY HEALTH CARE, INC. AND SUBSIDIARIES
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)

A.     BASIS OF PRESENTATION

        The condensed consolidated financial statements of Coventry Health Care, Inc. and subsidiaries (“Coventry” or the “Company”) contained in this report are unaudited but reflect all normal recurring adjustments which, in the opinion of management, are necessary for the fair presentation of the results of the interim periods reflected. Certain information and footnote disclosures normally included in the consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States have been omitted pursuant to applicable rules and regulations of the Securities and Exchange Commission. The results of operations for the interim periods reported herein are not necessarily indicative of results to be expected for the full year. It is suggested that these condensed consolidated financial statements be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s most recent Annual Report on Form 10-K for the year ended December 31, 2002, filed with the Securities and Exchange Commission on March 24, 2003.

B.     SIGNIFICANT ACCOUNTING POLICIES

        The Company accounts for stock-based compensation to employees under Accounting Principles Board (“APB”) Opinion No. 25 – “Accounting for Stock Issued to Employees.” Unless the accounting rules change, the Company does not expect to transition to the fair value method of accounting for stock-based compensation. Had compensation cost been determined consistent with Statement of Financial Accounting Standards (“SFAS”) No. 123 – “Accounting for Stock-Based Compensation,” the Company’s net earnings and earnings per share (“EPS”) would have been reduced to the following pro-forma amounts (in thousands, except per share data):

6

C.     ACQUISITIONS

      Effective February 1, 2003, the Company completed its acquisition of PersonalCare Health Management, Inc. (“PersonalCare”), in Champaign, Illinois. The acquisition was accounted for using the purchase method of accounting and, accordingly, the operating results of PersonalCare have been included in the Company’s consolidated financial statements since the date of acquisition. The purchase price for PersonalCare was allocated to the assets, including identifiable intangible assets and liabilities based on estimated fair values. As of the acquisition date, PersonalCare had approximately 78,000 risk members in Illinois.

      Effective September 1, 2003, the Company completed its acquisition of Altius Health Plans, Inc. (“Altius”), in South Jordan, Utah. The acquisition was accounted for using the purchase method of accounting and, accordingly, the operating results of Altius have been included in the Company’s consolidated financial statements since the date of acquisition. The purchase price for Altius was allocated to the assets, including identifiable intangible assets and liabilities based on estimated fair values. As of the acquisition date, Altius had approximately 117,000 risk and 51,000 non-risk members in Utah.

D.      GOODWILL AND OTHER INTANGIBLE ASSETS

        Goodwill and other intangible assets consist of costs in excess of the fair value of the net tangible assets of subsidiaries or operations acquired through September 30, 2003.

Goodwill

        As described in the Company’s segment disclosure, assets are not allocated to specific products, and, accordingly, goodwill can not be reported by segment. The changes in the carrying amount of goodwill for the nine months ended September 30, 2003 are as follows (in thousands):

7

Other Intangible Assets

     The other intangible asset balances are as follows (in thousands):

     Other intangible asset amortization expense for quarters ended September 30, 2003 and 2002 was $0.6 million and $0.8 million, respectively, and $1.9 million and $2.4 million for the nine months ended September 30, 2003 and 2002, respectively. Estimated intangible asset amortization expense is $2.5 million for the years ending December 31, 2003 through 2007. The weighted-average amortization period is approximately 14 years for other intangible assets.

E.      SENIOR NOTES

     As described in the Company’s Annual Report on Form 10-K for the year ended December 31, 2002, on February 1, 2002, the Company completed a transaction to sell $175.0 million original 8.125% senior notes. As required under the terms of the senior notes, the Company made interest payments of $7.1 million during each of the first and third quarters of 2003.

     In August 2003, the Company repurchased a portion of its senior notes with a face value of $4.5 million and a weighted average premium of 8.9%. The Company recorded a loss on the repurchase in accordance with SFAS No. 145 which requires gains and losses on extinguishments of debt to be classified as income or loss from continuing operations. The loss of $0.5 million was included as additional senior notes interest expense.

     The Company has complied with all covenants under the senior notes.

8

F.     CONTINGENCIES

Legal Proceedings

     In the normal course of business, the Company has been named as a defendant in various legal actions such as actions seeking payments for claims denied by the Company, medical malpractice actions, employment related claims and other various claims seeking monetary damages. The claims are in various stages of proceedings and some may ultimately be brought to trial. Incidents occurring through September 30, 2003 may result in the assertion of additional claims. The Company carries general liability insurance for each of the Company’s operations on a claims-made basis with varying deductibles for which the Company maintains reserves. The Company maintains general liability, professional liability and employment practices liability insurance in amounts that it believes is appropriate. The professional liability and employment practices liability insurance is carried through the Company’s captive subsidiary.

      The Company’s captive subsidiary provides up to $5 million in professional liability coverage for each event and up to $10 million in coverage for each event that is a class action. The captive has an aggregate policy limit of $20 million, which is an increase of $5 million from the prior year. On top of the captive’s per event limit of $5 million, the captive is co-insured with a commercial carrier for an additional $10 million for employment practices claims. The captive provides up to $1 million in coverage for each event and has an aggregate policy limit of $10 million. Each year the Company will re-evaluate the most cost effective method for insuring these types of claims.

      Coventry Health Care, Inc. is a defendant in the provider track in the Managed Care Litigation filed in the United States District Court for the Southern District of Florida, Miami Division, MDL No. 1334, styled in re: Humana, Inc., Charles B. Shane, MD, et al. vs. Humana, Inc., et al. This action was filed by a group of physicians as a class action against Coventry and twelve other companies in the managed care field. In its fourth amended complaint, the plaintiffs have alleged violations of the federal racketeering act, Racketeer Influenced and Corrupt Organizations (“RICO”), conspiracy to violate RICO and aiding and abetting a scheme to violate RICO. In addition to these RICO claims, the complaint includes counts for breach of contract, violations of various state prompt payment laws and equitable claims for unjust enrichment and quantum meruit. Coventry has filed a motion to dismiss each of these claims because they fail to state a cause of action or, in the alternative, to compel arbitration pursuant to the arbitration provisions which exist in the Company’s physician contracts. The trial court has certified various subclasses of physicians; however, the Company was not subject to the class certification order because the motion to certify was filed before Coventry was joined as a defendant. The plaintiffs have now filed a motion to certify a class as to Coventry, and Coventry has filed its opposition to that motion. The trial court has not yet issued a ruling on the motion. The defendants who were subject to the certification order filed an appeal to the 11th Circuit which has been argued. The appeals court has not yet issued its decision. Subsequent to this appeal, two companies have entered into settlement agreements with the plaintiffs. Both settlement agreements have been filed with the Court, with one now having received final approval. Although Coventry can not predict the outcome, management believes that the claims asserted in this lawsuit are without merit and the Company intends to defend its position.

Federal Employees Health Benefits Program

        The Company contracts with the Office of Personnel Management (“OPM”) to provide managed health care services under the Federal Employee Health Benefits Program (“FEHBP”). These contracts with the OPM and applicable government regulations establish premium rating arrangements for this program. The OPM conducts periodic audits of its contractors to, among other things, verify that the premiums established under its contracts are in compliance with the community rating and other requirements under FEHBP. The OPM may seek premium refunds or institute other sanctions against health plans that participate in the program.

         HealthAmerica Pennsylvania, Inc., the Company’s Pennsylvania HMO subsidiary, has received draft audit reports from the OPM that questioned approximately $31.1 million of subscription charges for contract years 1993 – 1999 that were paid to this subsidiary under the FEHBP. The reports recommend that if these amounts are deemed to be due, approximately $5.5 million in lost investment income charges should also be recovered with respect to such overcharges, with additional interest continuing to accrue until repayment of the overcharged amounts. This matter has also been referred to the Office of the U.S. Attorney for consideration of a possible civil action. The Company has responded to the OPM and the U.S. Attorney with respect to the amounts questioned during these audits and has provided additional information to support its positions. Although the Company can not predict the outcome of this matter, management believes, after consultation with legal counsel, that the ultimate resolution of this matter will not have a material adverse effect on the accompanying condensed consolidated financial statements.

9

G.    RESTRICTED STOCK AWARDS

     The Company awarded 7,000 shares of restricted stock in the third quarter of 2003 at a weighted average fair value of $49.87. During the nine months ended September 30, 2003, the Company awarded 316,000 shares of restricted stock at a weighted average fair value of $43.48. The fair value of the restricted stock, at the grant date, is amortized over varying vesting periods through May 2007. The Company recorded compensation expense related to restricted stock grants, including restricted stock previously awarded in 2001 and 2002, of approximately $2.8 million and $1.8 million for the quarters ended September 30, 2003 and 2002, respectively, and $6.8 million and $3.9 million for the nine months ended September 30, 2003 and 2002, respectively. The deferred portion of the restricted stock grants was $24.1 million at September 30, 2003 and $17.2 million at December 31, 2002.

H.    SEGMENT INFORMATION

     The Company has three reportable segments: Commercial, Medicare and Medicaid products. The products are provided to a cross section of employer groups and individuals throughout the Company’s health plans. Commercial products include health maintenance organization (“HMO”), preferred provider organization (“PPO”), and point-of-service (“POS”) products. HMO products provide comprehensive health care benefits to members through a primary care physician. PPO and POS products permit members to participate in managed care but allow them the flexibility to utilize out-of-network providers in exchange for increased out-of-pocket costs. The Company provides comprehensive health benefits to members participating in Medicare and Medicaid programs and receives premium payments from federal and state governments.

     The Company evaluates the performance of its operating segments and allocates resources based on gross margin. Assets are not allocated to specific products and, accordingly, can not be reported by segment. The following tables summarize the Company’s reportable segments through gross margin and include a medical loss ratio (“MLR”) calculation:

10

		Nine Months Ended September 30,
		(in thousands)
		Commercial		Medicare		Medicaid		Total
2003
	Revenues	$ 2,496,041		$  358,315		$  390,528		$ 3,244,884
	Medical costs	2,003,630		295,258		339,143		2,638,031
	Gross margin	$    492,411		$    63,057		$    51,385		$    606,853
	MLR	80.3%		82.4%		86.8%		81.3%
2002
	Revenues	$ 1,916,590		$  314,222		$  346,746		$ 2,577,558
	Medical costs	1,588,331		269,062		292,611		2,150,004
	Gross margin	$    328,259		$    45,160		$    54,135		$    427,554
	MLR	82.9%		85.6%		84.4%		83.4%

I.    COMPREHENSIVE INCOME

     Comprehensive income for the quarters and nine months ended September 30, 2003 and 2002 was as follows (in thousands):